Commodities trader Noble may lose investment grade rating

A worker walks among coils of galvanized steel at a steel factory.
Sean Gallup | Getty Images
A worker walks among coils of galvanized steel at a steel factory.

Commodities trader Noble Group is coming under scrutiny yet again after lackluster third quarter results released last week triggered a review from Moody's, which may see the Asian giant lose its investment grade rating.

"The rating review is triggered by Noble's weaker-than-expected liquidity profile and its still-high leverage in its quarterly results announcement," said Joe Morrison, a Moody's Vice President and Senior Credit Officer.

A review indicates that a rating is under consideration for a change in the near term while a ratings outlook is an opinion about the likely rating direction in the medium term. Ratings on review for possible downgrade have historically concluded with a downgrade over half of the time, said Moody's.

A rating cut from its current Baa3 rating to junk territory will likely increase Noble's borrowing costs and make it harder to refinance debt to shore up its finances.

The embattled Hong Kong-based company has been under the microscope since February this year with shares down more than 60 percent since then-anonymous Iceberg Research set off the scrimmage in February when it published a report, alleging that the Singapore-listed trader's accounting treatments were "unusual," result in "fabricated" profit and "intentionally misleads credit agencies and investors."

On Thursday, Noble reported third-quarter net profit fell 84 percent to $24.7 million from a year earlier on a nearly 20 percent drop in revenue to $18.7 billion.

In its announcement Monday, Moody's cited concerns with Noble's cash flow and availability, which was down 34% to $1.9 billion in the third quarter from a quarter ago.

Nobles shares are flat from Monday but down more than 10 percent since the latest results were released.

Although the company reported positive cash flow from operations for the quarter of $318 million, adjusted funds from operations declined quarter on quarter, noted Moody's.

Financial leverage remained also high for its rating level, with adjusted net debt to earnings before interest, taxes, debt and amortization for the 12 months ended 30 September at 3.6 times from 3.5 times at end-second quarter, Moody's said. Adjusted retained cash flow to debt was just modestly higher at 22 percent from 21 percent at the end of the second quarter.

Although Noble is in the process of raising capital through asset sales, financial transactions or a combination or the two, Moody's said it is concerned that the negative industry environment will continue to have an adverse effect on the company's liquidity profile and operations.

The current slump in commodities prices is hammering companies selling raw materials from iron ore to palm oil, sending profits down and debt higher.

Other analysts have also raised concerns about Noble's results.

DBS Vickers analyst Mervin Song maintained his Hold call but slashed target price to $0.49 from $0.57 on Friday.

Calling Noble's third quarter results "underwhelming", Song said it will take time for Noble to "restore confidence" in whether its business model could continue generating sufficient positive free cashflow. Investors are also concerned about the valuation of its associates and offtake agreements, he added.

Song said concerns over Noble's cashflow generation and the valuation of its associations would be alleviated if Noble is able to realize the value of its assets by a partial or full divestment, securing a strategic investor to provide confidence over the long term viability of its business or generate positive free cashflow in a sustainable fashion.

OCBC's Carey Wong also kept his call at Hold and reduced the target price to $0.54 from $0.60. He noted that the main drag on Noble's earnings came from the metals and mining sector. Bright sparks are on the horizon however with the energy segment posting a 36 percent increase in shipment and a more than 400 percent increase in EBIT despite a 22 per cent drop in revenue. Cost has also been down every quarter since the last quarter of 2014

Nemesis Iceberg Research was relentless in its critique of Noble's results, noting that the company recorded operating cash outflow in the first nine months only because it had liquidated large amounts of inventories—an "artificial and temporary" measure.

"Traders structurally need inventories in their business. Their job is to move them. If there are no inventories, there is no business. Besides, Noble will have to use the proceeds of these inventories to pay its suppliers in the next quarter. We expect the effect to reverse in Q4 and Noble to end the year with deeper negative operating cash outflow. This raises even more doubts over their ability to refinance debt."